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Chris Whalen: Fed Funds No Longer an Effective Policy Tool

Submitted by Taps Coogan on the 18th of March 2020 to The Sounding Line.

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Chris Whalen, Whalen Global Advisors Chairman, recently spoke with Fox Business about the increasing limitations of the Fed’s approach of transmitting monetary policy through the Fed Funds rate. He also shares his gloomy outlook for the banking sector

Some excerpts from Chris Whalen:

“They’re adding back liquidity that they had taken out. You may recall back in 2018, we thought we were raising interest rates and they were shrinking the balance sheet. This caused a problem and it continued to happen. Back in September you may remember that we had a lot of problems in the short term money markets, in the repo markets. Repo is basically when finance companies and others have paper that they want to finance overnight or 30-days. It’s the short term money markets that make our economy go. It’s very important. So when that stops functioning and the spread between the bid and the offer widen, you have a problem…”

“What’s really happening here is you have a structural problem. You have a certain number of banks and large dealers that face the Fed. They are what we call primary dealers: JP Morgan, Wells Fargo, all of the big universal banks… They get access to the Fed. So when the Fed provides liquidity they are only doing it through these banks. Meanwhile, everybody else, which includes banks, finance companies, the rest of the economy, Fannie Mae, Freddie Mac, we all function outside of this special marketplace, and the (policy) execution is often inferior…because the price at times didn’t make sense and often times there was just not the volume of liquidity available. You couldn’t get an offer and that’s the problem. So, the Fed responded with the big bucket and they are talking trillions of dollars, not just of short term additions of  liquidity, but they are going to start buying longer dated treasuries again…”

“Banks are an increasingly problematic investment… The yield on earning assets for US banks is trending down. It’s hard for them to make money on loans… Across the board, most of the assets don’t really have much upside in terms of return… The benchmarks today are at book value…”

“I think that the Fed has to realize that targeting the Fed Funds, and using that as the instrument of policy has kind of run its course. We can’t do this anymore and we really need to think about how to manage monetary policy without manipulating this very important rate because… we are getting rid of LIBOR, so the Fed Funds is going to become the de-facto rate for all consumer finance, for all wholesale finance in the United States. It would be nice if it was a market rate instead of a manipulated rate.”

There is much more to the interview, so enjoy it above.

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